China cuts key rates to aid economy as trade war simmers

Highlights:

• China cuts benchmark lending rates as economy struggles
• State banks lower deposit rates by 5-25 basis points
• Economists doubt Beijing's 5% growth target without more stimulus

China cut benchmark lending rates for the first time since October on Tuesday, while major state banks lowered deposit rates as authorities work to ease monetary policy to help buffer the economy from the impact of the Sino-US trade war.

The widely expected rate cuts are aimed at stimulating consumption and loan growth as the world's No. 2 economy softens, while still protecting commercial lenders' shrinking profit margins.

The People's Bank of China said the one-year loan prime rate (LPR), a benchmark determined by banks, had been lowered by 10 basis points to 3.0% , while the five-year LPR was reduced by the same margin to 3.5%.

Most new and outstanding loans in China are based on the one-year LPR, while the five-year rate influences the pricing of mortgages.

The lending rate cut was announced just after five of China's biggest state-owned banks said they had trimmed their deposit interest rates.

Industrial and Commercial Bank of China, Agricultural Bank of China, China Construction Bank and Bank of China reduced deposit rates by 5-25 basis points (bps) for some tenors, according to rates shown on the banks' mobile apps. Reuters had reported on Monday that the banks planned to cut their deposit rates from Tuesday.

The deposit rate reductions should guide smaller lenders in making similar cuts.

Banking shares edged higher following the rate decision, with the CSI Bank Index rising 0.7%, outperforming the benchmark Shanghai Composite index.

Marco Sun, chief financial market analyst at MUFG Bank (China), said the rate cuts were aimed at boosting credit lending and stimulating consumption.

"The central bank is likely to switch to a wait-and-see approach in coming months unless external geopolitical risks deteriorate enough to extinguish hopes that the economy can stabilise," Sun said.

RECOVERY REMAINS FRAGILE

The rate cuts are part of a package of measures announced by PBOC Governor Pan Gongsheng and other financial regulators before talks between China and the US in Geneva earlier this month that led to a de-escalation in their trade war.

Global investment banks are raising their forecasts for China's economic growth this year, after Beijing and Washington agreed to a 90-day pause on tariffs, despite uncertainty around Sino-US trade negotiations.

"We still believe it will be quite challenging for Beijing to achieve its 'around 5%' growth target unless it rolls out a sizable stimulus package," Ting Lu, chief China economist at Nomura, said in a note this week.

"Considering the respite on the trade war, Beijing might be under less pressure to introduce the necessary stimulus and reforms."

Recent economic readings show growth remains patchy and lacklustre.

China's new home prices were unchanged in April from a month earlier, official data showed on Monday, extending the no-growth trend to nearly two years despite policymakers' efforts to stabilise the sector. Meanwhile, new bank loans also tumbled more than expected last month.

BANKS PROFIT UNDER PRESSURE

Tuesday's bank deposit rate cuts were a pre-emptive move, said Xing Zhaopeng, senior China strategist at ANZ.

"One purpose is to repair commercial banks' net interest margin and get prepared for the future," Xing said, expecting one more rate cut by the end of July.

Nicholas Zhu, an analyst at Moody's, expects a prolonged period of low interest rates in China.

"The reduction in deposit costs partly mitigates the impact of lower asset yields, which remain under pressure as banks are expected to support the real economy," said Zhu.

Major Chinese banks cut deposit rates in October and July last year as their profits came under pressure after the PBOC lowered lending rates. Prior to that, the banks made three rounds of such deposit rate cuts in 2023.

The Big Five lenders reported narrower margins on their first-quarter earnings and some a drop in profits as the banking sector is hit by a protracted economic slowdown.

Commercial banks' net interest margin - a key profitability measure - dropped to a record low 1.43% in the first quarter of this year, official data showed.

Net interest margins are expected to fall a further 10-15 bps this year as banks are in fierce competition to lure customers with cheap loans while credit demand remains weak, analysts at China International Capital Corp said in a note.